Category Archives: Taxes

It is surprising that most government and other tax-exempt organization employees are unaware of a major tax benefit laying at their feet. While 403b plans are well known as the public sector’s alternative to a 401k, the 457 deferred compensation plan remains relatively unknown. This is a shame. If you are a government employee, it is imperative that you be aware of the benefits associated with a 457 plan.

On the surface the best part of the 457 plan is that it allows you to put another $18,000 in earnings away on a tax deferred basis. If you max out your 403b and 457, you can defer up to $36,000 per year! If you’re over 50, you can add a catch up contribution of $6,000 to each plan. This is very powerful way to protect your earnings from the hands of Uncle Sam.

If you dig a layer deeper with the 457, you will find that the 457 has a unique provision. Unlike its 403b sister, 457 restrictions on ‘early distributions are different. For a 403b plan, you typically can’t get the money out without an early withdrawal penalty prior to 55 or 59 1/2. The 457 is not concerned with age. It is concerned with whether or not you separated from service from your employer. In other words, if you quit, get laid off, or fired, you can access your savings without the early withdrawal penalty. This is a major benefit for using a 457. The reason this exists stems from the fact that the 457’s original purpose was to provide police and fire employees a way to access retirement funds in the event that their career was ended early by injury. At some point the law was changed and here we are today with this great benefit.

Remember, putting $18,000 away in additional savings to a 457 plan (or 403b, 401k) is not a dollar for dollar game. You are actually reducing your annual income in the eyes of the IRS. This means less annual taxable income. The tax savings does not impact your net salary by $18,000 or whatever you choose to contribute. The tax savings lessens the reduction to your net take home pay. This is a win-win situation.

I highly recommend you consider your current financial needs and your retirement needs. Based on the facts, make a decision on whether you can save more for retirement. Time waits for no one and Uncle Sam has provided you with a pass on the IRS for up to $18,000 and possibly $36,000, if you work for the right type of employer (each year the contribution rates are subject to adjustment). These benefits are real and direct. Don’t pass up on a good thing.

In front of me sits a dissembled clock encased in plastic with a the following message, “TIME IS MONEY. Blessed is he who has both.” Below the saying are three pennies; two from 1981 and one from 1979. I’m assuming it was purchased prior to my birth in 1983. For as along as I can remember it has been mine. While growing up it was in my room and now is part of my office. Given its time and travels it is in good condition.

Before I could read, I recall being mesmerized by the parts of the clock and the shine of the pennies. I had little a clue about the message that was centered between the clock and the pennies. It seems this same disconnect echos through lives of many people in our country today. Where does one start? Lack of growth in inflation adjusted wages? The number of people receiving food stamps? The explosion of college debt? The reliance on home equity to boost purchasing power? The list seems to be never ending.

Through this journey called life I’ve come to a point where I either don’t know or don’t believe in the general picture, which we call the American Dream. The American Dream constantly appears as a perpetual state of consumption that is exponentially increased with each subsequent generation. A first generation American seeks more ‘basic’ goods and then is followed by a lineage that demands greater and greater good services. Is this the Dream?

The American Dream as it stands today should be called the quest for the greater comfort. While this might sound good and reasonable, at a certain point chasing greater comforts equates to being soft. At what point does one tip the balance between comfort and weakness? For the sake of the site’s theme, we will focus on financial weakness.

To consume requires fuel. Fuel in this realm means money. An increasing share of the population has turned into quasi-grifters through the use of government handouts. These subsidies are realized through tax collections. Tax collections stem from many different sources, but a very significant amount come via income and payroll taxes (approx 47% for income and 33% for payroll). The financial weakness experienced by a large portion of the population is subsidized by another portion of the population.

In order to lessen the impact of being part of the government’s leveling plane, you need to start contributing to a retirement plan. Whether this is a 401k, 403b, IRA or 457, whatever options that are available to you should be utilized. Such savings will shield you from future taxes or at least defer that tax burden until some point in the future. I would go so far as to say that it does not matter if you take the money in your retirement account and throw it in cash until you know what you’d like to invest in. The principal importance is that you’ve avoided the wrath of the Federal and State taxman. Depending on your situation, this burden could vault beyond the range of 40% or 50%. The ‘return’ alone from avoiding taxes is humongous.

Who’s American dream do you want to subsidize? The person you see in the mirror or everyone else? Time is money. Value them both and make smart decisions, given the rules our society allows. Retirement accounts are an out that are currently afforded to reduce your tax burden and increase the money you are able to keep for yourself. The concept of retirement is a measurement in time and is born into existence through the arrival of financial independence. America had to fight for its independence. Now its time for you to fight for your financial independence.

For some reason the USDA was a little over a week late reporting the August food stamp data (Released this past Friday night). The most current food stamp measurements do not paint a pretty picture. The August numbers show food stamp usage at a record high of 47,102,780. Of this record-setting number, 420,947 participants were added between July and August. This month-to-month increase was the largest jump seen within one year.

In terms of economic indicators, a lot of attention is paid to changes in the unemployment rate . Between assumptions added into the unemployment calculation, such as seasonal adjustments and the fact that those who quit looking for work fall off the count of the unemployed, the unemployment rate is a murky statistic at best. The number of people receiving food stamps is a pretty straight forward measurement.

What is the rate of people on food stamps telling us? It’s demonstrating that an increasing number of people in the U.S. are claiming they are financially unable to provide a basic standard of living. Should you bet on a vibrant economic recovery knowing such information?

The U.S. currently has a population of 314 million people. Of the 314 million, roughly 239 million are adults (approx 76% of the population is over 18). If we divide the number of people on food stamps by the approximate adult population, we get that nearly 20% of the adult U.S. population is receiving food stamps.

As an indicator of future economic health, the count of those receiving food stamps does have some weakness. The number that should have been released at the very end of October or the first of November provided a measurement for August. That means not only is the information historical, it’s 2 months old. In terms of investing, it’s best to have information that is as fresh as possible and forward-looking.

In a sense, the increase/decrease of those receiving food stamps between months does provide a forward-looking gauge. You would expect that those signing up for food stamps would be in a situation where they’re experiencing a personal economic contraction. Assuming a miraculous financial turnaround does not happen in the person’s life, the contraction probably will last a number of months. Therefore, it is reasonable to extrapolate that increases in food stamp rolls will lead to an economic contraction in spending.

Consumer spending accounts for about 70% of U.S. GDP. If the number of people receiving food stamps continues to increase, we will continue to find ourselves in a cycle where a smaller portion of our population has the financial means to aid in the growth of consumer spending. At the same time, the federal government will be increasingly burdened with the need to allocate more funds to support food stamp recipients. More tax dollars will ultimately be needed to support the additional recipients, which results in an additional drag on the prospect of economic growth. This is a vicious cycle.

With the looming uncertainty of the ‘fiscal cliff’ and the news received regarding food stamp recipients, I would recommend proceeding with caution when considering new investment positions.

If you have not come across the latest monthly installment by Bill Gross, you certainly will want to give it a read (linked below). Bill does a great job this month providing a stark dose of macro economic reality. It’s better to know what you’re up against than pretend what you’re up against isn’t there. Since the discussion is focused on a ‘big picture’ centric view of the U.S. economy, it is relevant to investor or non-investor.

Three key takeaways from Bill’s October column…

The U.S. has federal debt/GDP less than 100%, Aaa/AA+ credit ratings, and the benefit of being the world’s reserve currency.

Studies by the CBO, IMF and BIS (when averaged) suggest that we need to cut spending or raise taxes by 11% of GDP and rather quickly over the next five to 10 years.

Unless we begin to close this gap, then the inevitable result will be that our debt/GDP ratio will continue to rise, the Fed would print money to pay for the deficiency, inflation would follow, and the dollar would inevitably decline.

My Take: Most people (maybe?) have already filed their tax returns, so this information (bel0w) might seem a little late, but it is not. I strongly believe that people do not realize that they have the ability to deduct up to half of your adjusted gross income (term defined below) through donations to charities (non-profits). This is huge in that the Federal government allows you to direct your otherwise taxed dollars to a cause of your choice. If you really care about a cause and know of a non-profit that is doing work in that area, you should seriously think about giving to the organization. It’s a win-win situation for you and them. You can give and lesson your tax burden, while you support the cause you care about.

I’m linking to a web page that provides a very good overview of the current rules and limitations that concern tax deductions and charitable donations. Once you are armed with this knowledge, then when you see a cause that you might want to support, you can make a more informed decision regarding your ability to contribute. Many people see non-profits asking for a donation as a losing proposition…at best it is seen as a way to get someone to stop bothering you. This isn’t true. If you have an actual interest in the non-profit or don’t like to see so much of your taxes go to the Federal government, then maybe you’re at the doorstep of a great opportunity.

Note: Adjusted Gross Income (AGI) is calculated as your gross income from taxable sources minus tax-expempt items like qualified medical expenses and retirment plan contributions. You can find your AGI on page 1 of your Federal tax return. You might also here AGI referred to as net income.

If you’re an income investor or even a growth investor, American Tower (AMT) should be a stock that has your attention. AMT is a company that leases wireless communication towers. From cell phone service to radio and television, they own 37,000 of the towers you see across the land enabling our communications infrastructure to function.

While I think the company is in a great industry that will continue to grow as we become more connected (especially internationally), an interesting event is set to transpire later this year. AMT is planning to convert itself from a regular corporation to a Real Estate Investment Trust (REIT). This would mean they would not be taxed as much at the corporate level and be required to pay 90 of its taxable profits as dividends.

As a REIT, AMT would be a very interesting investment. As the country expands into developing countries, you cannot ignore that there is a significant growth story to possibly be had, yet if AMT is a REIT and most of its money (90%) is being paid out as a dividend, can the company continue expanding as it has?

I’ve noted before that one problem some REITs have when growing is that they cannot retain enough of their earnings to finance their desired expansion. Sometimes this causes dilution of the stock’s shares because new shares will be issued to raise capital. The S&P currently maintains a BB+ credit rating on AMT, which isn’t all that bad (The better the credit rating the less you must spend to borrow money from lenders.).

If the change to a REIT occurs it will be interesting to see how investors react. This would be an obvious draw for income investors, but what will be the reaction of investors looking to gain more on the growth side? My guess is that the investors looking for more intensive growth will be gone by the time the potential conversion occurs. Therefore, the news will bring more buyers looking for investments paying regular dividend distributions.

A few days ago a news story broke that the SEC had requested tax-documents from AMT from 2007 to the present. I’m not sure if this is some regular procedure that occurs when a company is converting to a REIT or if it should be a yellow flag. In either case, it provides investors a point of information to look forward to finding more information out about in the future, if there is an issue. Otherwise, the next big news should be the REIT conversion.

If you want to gamble, then do it through an investment account rather than a casino.

When we think of gambling, we often think of high risk situations where the pay-off is great. If you win, you win big. If you lose, you go home empty handed.

A number of companies on the market are taking part in very risky ventures and stand to gain a lot, if successful. If they are successful their shareholders will win big, too. If they fail, then you’ll be bringing home little to nothing.

What’s a better bet? Going to a casino for your high risk ventures or to the stock market? The clear choice is the stock market. Why?

When you gamble you can only write-off losses against your gambling winnings. If you win $100 this year you can write off the $50 in losses you had in the year as well. If you win $0 this year, then you cannot write off the $50.

When you lose investing in a stock or fund, you can write off the loss when tax time comes regardless if you have or have not made a profit. You don’t have to win to get the write-off as you do when you gamble.

Stock market losses are looked at in a more favorable light than casino/gambling losses by the IRS.

Note – To enjoy the benefit of a write-off you must have some form of income to write-off against. Since I have no idea about your tax situation, consult your tax adviser, to see how this strategy might benefit you.

If you have an account that is not protected from taxes (not a retirement account), then you need to factor in a defensive tax strategy when investing. You only need to remember a few simple facts and concepts

Frequent trading – This will cause you to be subject to a higher tax rate on any profits you realize.

Dividend paying stocks – Each time you receive a dividend you are realizing a profit and therefore you are subject to taxes.

Growth stocks (no dividend payments) – Stocks that do not pay dividends do not cost you in terms of taxes until you sell them for a gain.

Example/Assumptions – I buy 1 share of two different stocks. Both stocks cost $50. One stock pays a 5% dividend annually and I hold the stock for 5 years. In 5 years I sell the stock for the same price I bought it $50. The other stock’s price appreciates 5% annually. Both dividend gained and capital gains from selling stock are taxed at 20%.

Dividend Stock

Annually I receive 5%, but my tax I must pay on all dividend distributions is 20%. Therefore, I really only see a 4% dividend annually.

5% div. * 20% tax rate = 1% of my dividend goes to the government

5% div – 1% taxes = 4% my actual dividend to keep

Over 5 years I make 20% (4% * 5 years) on my investment after taxes.

Growth Stock

The second stock I buy for $50, too. The stock does not pay a dividend, but grows in share price by 5% annually. After 5 years I sell the stock.

5% share price appreciation over 5 years causes my $50 stock to become a $63.81 stock. (Compounding is taking place here.)